Of the Federal Reserve and Taking from Savers

Ben Bernanke has a blog.  You can find it here, courtesy of the Brookings Institution.  Of course, what would the former Chairman of the Federal Reserve Board write about, other than decisions he made as Chairman, and why people who take issue with them are wrong?  One would expect no less, and reading the light he sheds on previous decisions—offered in Fedspspeak at the time that they were made—is surely the chief lure of Ben Bernanke’s blog.  Allowed to communicate in regular English, not worried about how Fed Watchers might construe or misconstrue everything he says and does not say, Ben is more able to speak his mind clearly.

The former Fed Head chose for his first blog post a vigorous defense of price controls on interest rates.  In the process Bernanke demonstrates the assumption that we are safe letting government economists control the economy—an assumption continually disproven by real-world experience. 

In fact, as a result of entrusting much of our economic freedom in the United States to government economists, we do not have a free market for interest rates, at least not short term rates, and we pay for that every day.  The Federal Reserve sets short term rates in this country, and so far the market has had zero success in moving rates from the near zero interest rate range that the Federal Reserve has decreed and maintained for some years.  Keep that in mind the next time you wonder why you earned $1.73 in interest on your savings account last year.

If you borrow money—when you can get a loan—then you might consider yourself lucky.  The biggest borrower of all, in the whole world, is the United States Government.  Uncle Sam must be feeling very lucky, because he is paying comparatively little on the $18 trillion of U.S. Government debt, increased by another half trillion dollars last year.

If you save money, though, especially for your retirement—and if you have to live off of those savings in retirement—you might not feel so fortunate.  By keeping interest rates lower than the market would set them, the Federal Reserve is daily transferring many billions of dollars from savers to the Federal Government.  And you thought that only the IRS takes your money.

Let me illustrate with an example.  For the last three months of 2014, all of the banks in the United States, all of them together, paid no more than $11 billion to people who had their money in banks.  Is that a lot of money?  It depends.  When that is the interest paid on nearly $12 trillion in deposits, the answer is, no, that is not very much money at all. 

Do not blame the banks, though.  They are in the saving and lending business, too. Try as they might, with the Federal Reserve controlling interest rates, banks could not pay any more interest to depositors.  If a bank did, it would have more money than it could lend as people shifted their deposits where they could get a better return.  To pay interest on deposits, banks cannot get much more interest from the loans they make than the Federal Reserve price controls allow, and many relatively good loans present more repayment risk (banks do need to be paid back) than those low interest rates would cover.  Low interest earned means low interest paid. 

All the banks in the nation have a little over $15 trillion in loans and other assets, on which they earned last year about the same amount as they did five years ago, when they had $2 trillion less in loans and other assets.  In an environment of low interest rates, banks have to concentrate their lending on the safest borrowers. 

That is how the low interest rates controlled by the Federal Reserve are oppressing the economy.  When savers and lenders can only get a few cents on a hundred dollars lent, they place their money with the very safest of borrowers, since they cannot afford to take any losses.  Someone who has a really good idea—which like all good ideas may or may not succeed the first time—has trouble getting the money to give his idea a go and hire people to help him try. 

Ben Bernanke claims that the Federal Reserve’s near zero interest rate policy—called ZIRP—has been stimulating the economy.  If so, where is the stimulation?  Why has the recovery been so weak?  There has been stimulus, but it has gone primarily to support Federal Government spending and to pay down the debt of the largest and healthiest businesses that can trade in their higher cost loans for the Federal Reserve’s lending bargains.  The biggest increases in bank loans have been in Treasury debt and deposits at the Federal Reserve.

Ben Bernanke, in his blog, reminds me of the story of the lawyer representing a client charged with stealing a car and returning it damaged.  The lawyer says, first, that his client never had the car; second, that he returned it in perfect condition; and, third, that it was already irreparably damaged when his client took it. 

Bernanke begins by explaining that the Federal Reserve does not set interest rates, or that at most its ability to do so is only “transitory and limited.”  He pleads that the Fed can only affect short term rates “in the short run.”  He does not explain how seven years of ZIRP can be considered the short run.  Then he progresses in his blog to describe how the Federal Reserve “influences” interest rates and then how the “Fed’s actions determine” interest rates.  His argument, after denying that the Fed can set rates, is that the economy has been so weak that the Fed has had to lower interest rates for the nation’s own good.  Bernanke next argues that the economy has remained so troubled (he does not say, despite ZIRP) that the Federal Reserve has had no choice but to continue with ZIRP, concluding that it is the economy after all the forces the Fed to do what it does.  Do not blame the Fed Governors, they had no choice but to continue doing what they cannot do because it has not done any good so far.  I think you need to have a Ph.D. in economics to make such an argument.

We cannot do it, we did what we had to do, and since it has not helped we cannot stop.  I wonder how he reacted to those kind of explanations from his teenagers.  Any responsible parent would reply, no, you cannot have the car, give me back the keys.